Sonic Automotive, Inc. — Q1 2020 Form 10-Q
Business context and reporting period. Unaudited results for the three months ended March 31, 2020, compared with Q1 2019. Sonic operates franchised dealerships and EchoPark used-vehicle stores. COVID-19 restrictions began materially affecting operations in the latter half of March.
Financial performance
- Revenue: $2.308 billion, down 3.4% year over year. Gross profit was $350.6 million, down 2.3%; gross margin was approximately 15.2%, versus 15.0%.
- Profitability: Operating loss was $221.9 million versus operating income of $87.3 million; net loss was $199.3 million, or $4.68 per diluted share, versus net income of $42.2 million, or $0.98 per share. The 2020 results included a $268.0 million non-cash goodwill impairment charge, partly offset by a $51.3 million tax benefit. Excluding the impairment, operating income would have been $46.1 million.
- Costs and margins: SG&A was $282.2 million, up 14.2%, and rose to 80.5% of gross profit from 68.8%. The prior-year comparison included a $46.7 million gain on dealership disposals, partly offset by $6.3 million of executive transition costs.
- Cash flow: Operating cash use was $47.2 million, compared with $94.3 million used in Q1 2019. Capital expenditures were $19.8 million. Financing provided $219.5 million, including net revolving-credit borrowings; cash increased to $181.8 million from $29.1 million at year-end.
- Debt and liquidity: Long-term debt, including current maturities, was $911.6 million; vehicle floor-plan notes totaled approximately $1.547 billion. Reported available liquidity resources were $311.5 million, including cash, floor-plan availability, mortgage availability and a $100 million floor-plan deposit. The 2016 revolving facility had no remaining availability at quarter-end. Lease liabilities totaled approximately $408.0 million.
- Covenants and rates: Sonic reported compliance with debt covenants. Actual liquidity ratio was 1.07 against a 1.05 minimum; fixed-charge coverage was 1.70 against a 1.20 minimum; lease-adjusted leverage was 3.69 against a 5.75 maximum. A 100-basis-point interest-rate increase was estimated to change quarterly interest expense by approximately $5.0 million.
Material changes versus Q1 2019
- Franchised Dealerships revenue fell 7.6% to $1.976 billion; segment income before impairment was $22.7 million versus $61.2 million. The prior period included the dealership-disposal gain noted above.
- EchoPark revenue rose 32.9% to $331.7 million; segment income was $2.1 million, essentially flat. Same-store retail used-vehicle sales volume rose 18.2%, while combined used-vehicle and F&I gross profit per unit declined 5.5% to $2,172.
- Same-store franchised new-vehicle revenue declined 4.7% and unit sales fell 6.1%; new-vehicle gross profit per unit declined 6.4%. Same-store fixed-operations revenue increased 1.5%, and same-store F&I revenue increased 6.9%.
- Consolidated retail new and used unit sales volume decreased 3.0%. The U.S. retail new-vehicle SAAR fell 8.7% to 11.6 million.
Outlook, commentary and risks
- Management said Q2 2020 would be operationally challenging and expected operating results to be significantly below the prior-year period. It anticipated shelter-in-place orders would mostly be lifted in the latter half of Q2 and expected recovery to begin in the second half of 2020, while emphasizing substantial uncertainty. No specific earnings or revenue guidance was provided.
- In late March, vehicle unit sales were down approximately 30%–50% year over year and repair-order activity down 15%–30%; management said those trends continued into April and expected them to persist at least through mid-May. A further outbreak or extended restrictions could renew demand pressure.
- Mitigation actions included approximately 1,700 associates placed on unpaid leave, 1,200 terminated, a hiring freeze, reduced compensation and advertising expense, deferred nonessential spending and postponed capital expenditures. The company also pursued vendor and landlord deferrals, tax-payment deferrals and additional liquidity options.
- The company recorded the goodwill impairment after concluding the franchised-dealership reporting unit’s carrying value exceeded fair value; the valuation relied on discounted cash flows and significant unobservable assumptions. Further impairment or asset-valuation risk could arise if conditions worsen.
- Other risks include consumer spending and credit availability, vehicle supply disruptions, manufacturer relationships, covenant compliance, interest-rate exposure and pending legal matters. Recorded legal reserves were $0.6 million; the company could not estimate a reasonably possible loss range beyond amounts accrued.
- Q1 share repurchases were approximately $21.3 million. A $0.10-per-share dividend was paid in April, and a further $0.10-per-share dividend was declared for payment in July; future dividends and repurchases remain subject to board decisions, liquidity and debt restrictions.
Important facts for investors to verify
- Whether vehicle sales, service activity and operating cash flow recovered as management anticipated, and the extent of continuing COVID-19 effects.
- Liquidity availability and covenant headroom, especially given no remaining availability under the 2016 revolving credit facility at quarter-end.
- The assumptions and sensitivity underlying the $268.0 million goodwill impairment, and whether additional assets or goodwill require impairment.
- Whether EchoPark growth can translate into improved per-unit economics and sustained segment profitability.
- Future borrowing needs, capital spending, share repurchases and dividend decisions relative to cash generation and debt restrictions.